Earlier this year in Ninth Circuit Defers on Important Privilege Waiver Case I summarized US v Sanmina Corp, a Ninth Circuit opinion that remanded a case to the district court to consider whether by disclosing the existence of purportedly protected documents the taxpayer waived various privilege claims it asserted with respect to memos that its in house tax counsel prepared. Earlier this month a federal district court in California issued an order holding that the taxpayer waived its privilege claims. The issue is important, especially for corporate taxpayers with layers of advisors touching different parts of a transaction or position taken on a tax return.
As background, and as I repeat from my January post, the case arose out of Sanmina’s 2009 tax return, when it claimed about a half billion dollars in a worthless stock deduction in one of its subsidiaries. The purportedly worthless sub had two related party receivables with an approximate $113 million book value. Notwithstanding the healthy book value, Sanmina claimed that the FMV of the receivables was zilch.
IRS examined Sanmina’s tax return and sent an information document request for documents that supported the deduction. Sanmina gave to IRS a valuation report from DLA Piper, its outside counsel. That report (not surprisingly) supported the taxpayer’s view that the receivables had no fair market value. Included in the report was a footnote that referenced internal memos that Sanmina’s tax counsel had prepared, one in 06 and the other in 09.
IRS asked for those two memos; Sanmina resisted, leading to IRS to summons them and bring an enforcement action when Sanmina did not comply. In 2015, the district court held that both memos were protected by attorney client and work product privilege and that the “mere mention” of the memos in the DLA Piper valuation report did not amount to the party’s waiving the privilege.
The Ninth Circuit reversed and remanded the matter back to the district court, and specifically asked that the district court judge examine the documents in camera so it could provide a “more informed analysis” of the waiver claims.[As an interesting aside, the case has been festering for almost four years; the magistrate judge who originally wrote the order that the government appealed, Paul Grewal, has moved on to Facebook where he is Deputy General Counsel.]
After some additional back and forth with the Ninth Circuit about the scope of the remand, the district court has now issued its opinion. In brief fashion, the district court agreed with the taxpayer that the documents were subject to both attorney client privilege and work product protection, but it found that the privileges were waived in light of the DLA Piper valuation report for two main reasons:
- When Sanmina gave the memos to DLA Piper it did so not with the hope of getting legal advice but for the purpose of getting a valuation for the stock of one of its subs; and
- In any event when it gave the DLA Piper report to IRS it waived privilege for any of the materials that Piper used to reach its valuation, as the report explicitly stated that it based its conclusions (at least in part) on the two memoranda that were at issue.
Sanmina had attempted to minimize the DLA Paper’s report reliance on the memos, pointing to a Ninth Circuit case Tennenbaum v Deloitte and Touche that suggested that disclosing the existence of the memos was not tantamount to disclosing the contents themselves. The opinion’s framing of DLA Piper as relying on the memos (aided by the in camera review the Ninth Circuit suggested) led the court to reject that argument:
[In Tennebaum], our court of appeals held that a promise to waive privilege is not, in itself, a waiver, rather, it is disclosure that triggers waiver. Id. at 341. The court noted that waiver is rooted in notions of “fundamental fairness” and that its principal purpose is “to protect against the unfairness that would result from a privilege holder selectively disclosing privileged communications to an adversary, revealing those that support the cause while claiming shelter of the privilege to avoid disclosing those that are less favorable.” Id. at 340.
Here, Sanmina wishes to do just that. Sanmina relies on DLA Piper’s determination supporting a $503 million stock deduction, but it avoids disclosing the very foundational analysis that informed its conclusion. DLA Piper acknowledged that it based its conclusions on the memoranda in question. Thus, it would be fundamentally unfair for Sanmina to disclose the valuation report while withholding its foundation.
While the taxpayer may appeal this order, it serves as a cautionary tale for taxpayers who rely on both in house tax counsel and outside advisors. Valuation issues often are at the heart of many disputes with the IRS (and other parties) but when a client leans on outside advice for valuation and those advisors disclose their use of documents prepared in house it creates a road map for a waiver argument for the documents that would otherwise be protected from disclosure.